Dow futures are commodity deals with predetermined prices and delivery dates in the future. They allow investors to forecast or speculate on the future value of equities before the opening bell.
Dow Futures Definition and Example
Commodities trade can be seen in the Dow Jones Industrial Average (DJIA) and the Standard & Poor's (S&P) 500 indexes. Instead of purchasing securities, you can trade commodities futures contracts on the index. If you are unknown to the futures market, Dow Futures may seem perplexing at first. Here are some fundamentals to help you understand.How Dow Futures Work?
Consider a farmer and a grocer to help you understand how Dow Futures work. The grocer knows that the farmer will soon have a crop of soybeans to harvest, so they offer to buy 100 bushels of soybeans for $900 in January. If the farmer accepts, the contract is signed, and both parties await January. Whatever the price of soybeans is in January, the grocer pays that price. A futures contract is a legally binding agreement between two parties (individuals or institutions) to exchange money or assets based on the expected prices of an underlying index. Futures are not the same as futures options. Options are derivatives of the futures market that have their market and exchange. Option contracts are purchased to allow the holder the right, but not the responsibility, to exercise the terms of the commodities transaction. In a futures contract, both parties are required to fulfill their obligations.Where Do Dow Futures Trade?
The purchase price you agreed on with the seller determines your position in a deal. Dow Futures contracts are traded on an exchange, which means you deal with the exchange when you create your position (your price and contract) on the commodity. The exchange exists to keep trading fair and avoid risk, such as one party failing to fulfill a contract. This risk is minimized by clearing all futures contracts through the exchange, as the exchange serves to guarantee every position.When Can You Trade?
Dow Futures begin trading on the Chicago Board of Trade (CBOT) each day at 7:20 a.m. Central Time (8:20 a.m. Eastern Time), one hour and ten minutes before the stock market opens. This permits trade to occur, allowing reporters and specialists to gauge market sentiment (the attitude of investors on prices and market potential). Market mood is volatile—if a firm posts tremendous earnings and the Dow Futures jump, the stock market will follow suit. If an unexpected weather event closes major shipping lanes before the stock market starts, the Dow Futures may fall as investors begin to anticipate issues. This raises the prospect of stock prices plummeting after the opening bell.Buying Futures With Leverage
Dow Futures contain built-in leverage, which means traders can trade futures with substantially less money while reaping exponential profits or losses. This allows traders to profit significantly more from market price fluctuations than they could by purchasing a stock altogether. Dow Jones futures employ a multiplier of ten (often called 10 to one leverage or 1,000 percent leverage). If Dow Futures are now trading at 6,000, a single futures contract has a market value of $60,000. A single Dow Futures contract increases or decreases by $10 for every $1 (or "point" known on Wall Street) that the DJIA moves.Key Elements
- Dow futures are commodity deals with predetermined prices and delivery dates in the future.
- They enable investors to forecast or bet on the future value of stocks before the market opens.
- A futures agreement is a legally enforceable agreement between two people or organizations.
- These parties agree to exchange money or assets depending on the expected prices of an underlying index under this agreement.
- Dow Futures begin trading on the Chicago Board of Trade (CBOT) at 7:20 a.m. Central Time.
